IMFC Statement by the Honourable Hans-Rudolf Merz, Minister of Finance of Switzerland

International Monetary and
Financial Committee
Seventeenth Meeting
April 12, 2008
Statement by Mr. Hans-Rudolf Merz
Minister of Finance, Switzerland
On behalf of Azerbaijan, Kyrgyz Republic, Poland, Serbia, Switzerland, Tajikistan,
Turkmenistan, Uzbekistan
International Monetary Financial Committee (IMFC)
Washington, April 12, 2008
Statement by the Honorable Hans-Rudolf Merz, Minister of Finance of Switzerland
Speaking on behalf of Azerbaijan, Kyrgyz Republic, Poland, Serbia, Switzerland,
Tajikistan, Turkmenistan, and Uzbekistan
I. Introduction
At this juncture, the IMF is facing a threefold challenge. It is called on to redefine its core
mission, establish a sound resource base, and enhance its governance. Substantial work to
address these challenges are ongoing, but their importance has been accentuated by recent
events in the world economy. I sense a strong momentum to advance these key efforts.
Successful institutional reforms are in the collective interest of the membership, since they
enable the Fund to play its preeminent role in safeguarding international macroeconomic and
financial stability.
With a marked slowdown in global growth and the ongoing financial market turmoil, the
Fund has to effectively contribute to stabilize the international financial system and to
strengthen the resilience of this system over the medium term. The Fund is rightly redirecting its focus and adapting its instruments in response to the more recent developments
in the global economic environment. These changes must build on its well-established
bilateral and multilateral surveillance instruments. But the Fund will also need to find new
ways how to assess the linkages between the macroeconomy and financial markets. The close
cooperation with the FSF, the BIS, standard setting bodies, and national authorities will help
distill relevant knowledge and forge a consensus on the lessons for public policy.
In parallel to the thorough strategic review of tasks and activities, important strides are being
made to modernize the working of the IMF to make it more cost-effective. I find these
measures that will lead to efficiency gains, expenditure reductions, and a sizable downsizing
within a short period remarkable for an international public institution. These efforts have my
support and I commend the new Managing Director for his vision and determination.
Furthermore, I am confident that it will be possible to make the Fund’s income base
sustainable, based on the recommendations by the Group of Eminent Persons.
I support Resolution on the reform of quota and voice in the IMF. I consider the increase in
basic votes effective in enhancing the voice of the smaller members. I also agree with the
specific measures to strengthen the representation of the two African constituencies.
However, I retain strong reservations against other parts of this package, namely the design
of the new quota formula which includes a large weight for GDP partially measured in
purchasing power terms. I thus insist that any further quota adjustment should be based on a
refined quota formula that better reflects the key role of financial globalization for the IMF’s
mandate.
-2II. Global Economic and Financial Environment
Uncertain Growth Outlook
The growth outlook for the world economy has significantly worsened, with considerable
risks of a further deterioration. The financial market turbulence that started in a limited
segment of the US mortgage market has over the past several months spread across the
financial system. Financial institutions continue the process of re-pricing hard to value assets
and their associated risks. While such an adjustment could be seen as long overdue, there is
the potential that the former exuberance of markets could turn into excessive pessimism and
risk adversity. The scenario of a downward circle of deteriorating credit quality causing asset
deflation and possibly leading to a disorderly unwinding of global imbalances is indeed
unsettling.
The risk of a recession in the United States – which is at the epicenter of the current financial
turmoil – seems high and rising, although export growth and additional fiscal and monetary
impulses should support the economy. The Federal Reserve has cut interest rates very
aggressively, which could counteract the negative growth impact of decreasing house prices
and stock market wealth. But there is the potential that this monetary easing fuels inflation in
the medium-term. For Europe, the economic fallout from the slowdown in the United States
and the credit market crisis is difficult to quantify. In fact, domestic demand in many
countries, including Switzerland, continues to be strong, and a large share of exports goes to
fast-growing Asian markets. The European economies also tend to benefit from increased
investment spending in oil-exporting countries.
Emerging Markets have generally been resilient to the market disruptions, due to improved
macroeconomic stability reflected in sounder fiscal and current account balances and higher
reserve levels. However, risks to their outlook have also increased with inflationary pressures
even more pronounced than in advanced countries. Increased international trade and financial
linkages would suggest that significant effects of the current downturn may yet be felt in
these countries. In some countries greater exchange rate flexibility would allow to better cope
with such spillover effects. For some emerging European countries, on the other hand,
credible Euro adoption agendas, along with responsible fiscal policies, may be decisive in
anchoring business confidence and protecting these countries from a sudden reversal of
capital inflows. They are well advised to combine effective financial sector supervision with
macroeconomic policies that keep excessive credit growth in check.
Most countries in Central Asia and the Caucasus continue to experience rapid growth,
supported by commodity exports and expansionary macroeconomic policies. A key challenge
for these countries is rising inflation that also reflects substantial and worrisome increases in
food prices.
-3Policy Response
Central banks have been at the forefront in responding quickly to the unfolding financial
market turmoil by repeatedly providing liquidity to alleviate stress in interbank lending.
Despite these coordinated efforts and a substantial monetary easing in the US, financial
conditions remain tight. This could well indicate that in the current environment central
banks’ traditional tools are insufficient to address what – in its core – is a crisis of confidence
among market participants. Exceptional measures to provide money markets with sufficient
liquidity such as the swap lines between the Federal Reserve, the ECB, and the Swiss
National Bank are thus appropriate. However, it is important that such credit lines do not
counteract the monetary policy strategy.
While it is essential to effectively and rapidly counter the symptoms of the current financial
market downturn, it is equally important to subsequently assess and sort out its underlying
causes and remedy evident systemic weaknesses. In doing so, the private sector should feel
compelled to make significant adjustments to its practices in order to strengthen the
resilience and functioning of global capital markets. On the official side, a pragmatic
strengthening of the regulatory framework for financial markets that builds on the joint work
already in progress on the international level, targets asymmetric incentive structures, and
substantially enhances disclosure appears most promising. We expect that many of these
improvements can be effected within the Basel II framework and encourage its broad
implementation and further refinement. Also, the cooperation between supervisors over large
global financial institutions should be intensified further.
The Swiss supervisors are at the forefront in improving oversight over large banks and the
financial system, as confirmed in the recent Article IV consultations that focused on financial
risks and related policy measures. The international initiatives pursued as a result of the
current crisis will involve different public and private sector bodies. These multiple work
streams will therefore need to be very well coordinated, prioritized, and sequenced.
Overreaction and inconsistencies should be avoided in favor of a predictable reform path.
The optimal role of the Fund in this process still has to be fully defined.
III. Reforming the IMF
Strategic Directions
I welcome the Managing Director’s ambitious agenda of re-orienting the Fund’s activities
towards its comparative advantages. This approach promises to make the IMF’s work more
relevant to members and enhance its effectiveness and impact. It allows, and requires, the
Fund to focus on those responsibilities that contribute most in the international context. This
not only implies the targeted use of limited resources, but also coherence and a clear division
of labor with international institutions whose strengths are complementary, particularly with
the World Bank. The Fund is faced with heightened expectations regarding its impact
through surveillance, low income country work, and capacity-building.
-4The Fund’s surveillance mandate is a core competence and is crucial to its multilateral and
bilateral roles. It is an area where no compromises can be made on output quality. This
function should be appropriately adapted and I support the envisaged emphasis on the
linkages between the real economy and financial markets, and cross-border spillovers. The
operational implementation of this enhanced macro-finance and multilateral focus should be
mainstreamed throughout the Fund, rather than implemented in one particular department.
Also, further research efforts on the macro-finance nexus will be needed, so that policy
recommendations can be made with sufficient confidence.
I look forward to the first Statement on Surveillance Priorities in the context of the Triennial
Surveillance Review, which will provide the means to direct surveillance towards key issues
of common concern. While I note that these changes will give the multilateral perspective of
surveillance more weight, the regular dialogue with authorities as part of its bilateral
surveillance process remains key. This dialogue is the bedrock of the IMF’s technical
expertise and credibility. As affirmed in the 20007 Surveillance Decision, the Fund is called
on to follow the principles of evenhandedness, candor, and focus in annual Article IV
consultations. The quality of its monitoring, analysis, and policy discussions must remain a
priority. I want to emphasize that the analytical content of Article IV reports needs to be
preserved, even as streamlining is pursued.
The Fund’s role in low-income countries first and foremost is to help these members secure
and maintain macroeconomic stability and sustainable debt levels. I expect the Fund to make
candid macroeconomic assessments and to offer pertinent policy advice to member
authorities, taking into account the specific circumstances of each country, in its area of
competence. Also, it is very desirable to draw more extensively on the experience from
emerging markets, as well as cross-country work more generally, in order to help lowincome countries graduate into an environment of higher growth and financial deepening. I
favor a clearer delineation of the Fund’s role in low-income countries relative to other
institutions, such as development banks, in order to optimize the Fund’s value added while
enhancing its own operational effectiveness. On engagement with donors, the sharing of
information by the Fund is key, all within the confines of the role as a trusted advisor. At the
same time communication with, and the coordination among, donors remains the
responsibility of the recipient authorities. With regard to Fund arrangements with lowincome countries, the Executive Board has a critical fiduciary duty in reviewing program
implementation and the use of Fund resources. I thus welcome the intention to maintain the
respective reviews cycles. I also positively note that independent ex-post assessment that
evaluate prolonged Fund resource use will be maintained.
Although demand from the membership for technical assistance and training has steadily
increased, the Fund remains a niche player in the provision of such capacity-building services
in the international context. Tighter resource constraints now require a concentration on a
more limited range of areas, in keeping with the principle of comparative advantage. A main
challenge also is the modernizing and harmonizing of technical assistance administration
-5with a view to establish an accurate and transparent costing that reflects international best
practice. This can then be the basis for external fundraising and increased bilateral
contributions, for example to thematic and geographic trust funds. At the same time, the
Fund should maintain some capacity to conduct TA within its own budget constraints,
including for areas where this has benefits for the membership as a whole, e.g., anti-money
laundering, and for members that might not be on the screen of many bilateral donors, e.g.,
post-conflict countries and fragile states. Overall, charges for capacity-building services,
uniform, graduated or otherwise, would clearly be the best way to address the need to
efficiently channel and respond to members’ requests. The delivery of technical assistance
and training via regional centers seems to be particularly cost-effective in building local
capacity and should be extended. The same applies to training courses. Generally, there
should be more information for the membership and more visibility of the Fund’s technical
assistance output and I support amending the transparency policy in this regard.
The Income-Expenditure Framework
The clarification of the strategic direction is a necessary underpinning for determining the
appropriate resource envelope over the medium-term. Priority setting and financial
sustainability must go hand in hand. I support the objectives that the Managing Director has
set in terms of expenditure savings and increasing income. I am pleased that the envisaged
significant financial restructuring process is well under way. By combining measures on the
expenditure and income sides, it should be possible to achieve a sustainable financing of the
Fund.
On the expenditure side, I have taken note of the thorough examination of current tasks by
internal working groups. This has yielded valuable proposals to achieve efficiencies and cut
costs, including through the modernization of structures, operations, and business processes.
I endorse the budget envelope for the medium-term, and the envisaged reduction in
expenditures by 100 million US Dollars in real terms by 2011. I am aware that this target
entails a significant reduction in staffing levels. The challenge is to make the expected
voluntary and involuntary separation as acceptable as possible, while avoiding the exit of
high performing staff.
The Fund’s income situation is projected to deteriorate further in coming years, implying a
continued drawdown of reserves. It remains urgent to address the Fund’s financial situation
in a comprehensive way. I thus support the Resolution to broaden the investment mandate of
the Fund. Overall, however, I would have preferred to adopt all elements originally proposed
by the Committee of Eminent Persons. This would have given the Fund a rational income
model. The exclusion of the possibility to invest members’ quota resources from this package
deprives the Fund of a discretionary income instrument. Looking ahead, reaching a formal
consent by all members for gold sales will be key. Such sales should be well coordinated
with central banks and included in the existing agreement for official gold sales. I do not
expect such sales to disrupt the gold market, an experience that is borne out by past gold
sales by the Swiss National Bank both directly on-market as well as through the BIS as an
-6agent. Further, I am in favor of introducing a dividend policy as an instrument to redistribute
income in excess of what is necessary to cover the Fund’s running costs and the
accumulation of appropriate reserves. Given broader tasks and responsibilities, there is a
need to enhance the Fund’s governance and capacities in investment and risk management.
Quota and Voice Reform
The agreement reached among members that concludes the second stage of the quota and
voice reform is in many respects unsatisfactory. It is a product of realism and compromise.
While I continue to subscribe to the overall objective and also support the measures that will
enhance the voice of low-income countries, my main concerns relate to the new quota
formula. I continue to have strong reservations in this regard. However, I also clearly
recognize the importance of this reform for the Fund and its entire membership. It is in this
spirit of collective interest that I am willing to support the second Resolution on quota and
voice reform.
The new quota formula does not sufficiently anchor the functions of quotas, nor does it
reflect the responsibilities of the Fund and its members. These responsibilities are derived
from its mandate as a monetary institution with global financial stability as its core mission.
GDP at market rates, not in PPP terms, is the sole measure to accurately reflect members’
economic position in the context of the Fund’s mandate. As the formula is geared to political
ends, it does not establish an economically sound and lasting basis. In particular, it does not
sufficiently mirror financial globalization even as the Fund refocuses its strategy in this
direction. I believe that even a 30 percent weight for openness is too low in a globally
integrating world. Any further increase in quotas will thus need to be effected based on a
revised formula.
I welcome the inclusion of a compression factor in the formula. It is a transparent
redistribution mechanism for avoiding excessive divergence between the quota shares of
large and small countries, and for enhancing the share of developing countries. Since the
compression factor addresses the undesired divergence in quota shares, and this divergence is
not time dependent, it should be permanent.
Also, I agree on the other elements of the package that have helped make this compromise
possible. The tripling of basic votes is an effective way of enhancing the representation of
smaller members, and I welcome the fact that the higher overall share of basic votes will be
maintained in the future. Better representation will also be possible through the attribution of
a second Alternate Executive Director for the two African Chairs.
IV. Outlook
I welcome the decisiveness by which the Managing Director has addressed the institutional
and policy challenges that the Fund is facing today. I am reassured that he will turn the need
for financial adjustment into an advantage by allowing the Fund to become a more efficient
-7and more focused institution. Implementing the decisions that the IMFC is asked to endorse
will require substantial further work and stamina. The forthcoming evaluation of the Fund’s
corporate governance by the Independent Evaluation Office (IEO) is to be seen as part of the
efforts to modernize the institution. However, institutional change cannot be an end in itself.
The reforms should enable the Fund to more effectively contribute to the stability of the
global monetary and financial system as it develops.